Adverse Selection and the Market for Annuities
Adverse selection is often blamed for the thinness of the annuities market. We study alternative types of annuity contracts that differ in the survival information structure, and explore their welfare implications. We show that, in principle, it is preferable to contract before the survival information is revealed, i.e., the deferred annuities equilibrium is better than the adverse selection equilibrium of immediate annuities. Quantitatively, however, the two arrangements are very close in terms of expected welfare. Our simulations show a welfare loss of around one percent for annuitants using the immediate annuities adverse selection market, relative to the first best allocation. We conclude that adverse selection is not the cause for the thinness of the annuities market.